IMF warns Italy 'vulnerable' to euro debt crisis

The IMF on Tuesday warned that Italy's economy remains "vulnerable" to the euro debt crisis and could have a knock-on effect globally despite "strong efforts" being made by Prime Minister Mario Monti.

The International Monetary Fund said it expected a recovery to "take hold" only at the start of next year with a rise in exports but said growth rates would continue to lag behind the rest of the eurozone without major reforms.

It also said that Italian banks were broadly stable but were still heavily reliant on liquidity from the European Central Bank and that lenders were becoming too exposed to sovereign risk and rising loan rates.

"The authorities have embarked on an ambitious agenda to secure sustainability and promote growth," the IMF said in an annual report.

"Despite these strong efforts, Italy remains vulnerable to contagion from the euro area crisis, with spillover consequences for the region and globally."

The report also stressed the importance of keeping up the reform momentum with continued public support for Monti, whose popularity ratings have dipped but remain relatively high as austerity cuts have taken holds.

"The key will be forceful and expeditious implementation of these reforms. To the extent that public support weakens then this will become more challenging," said Kenneth Kang, the head of the IMF's mission to Italy.

"Public support is still there and it is important that it remains there."

The IMF also urged Italy to cut spending and lower taxes in the medium-term and to implement structural reforms like overhauling the labour market, introducing pro-business laws and boosting competition in the service sector.

It hailed a new constitutional balanced budget law as "an important tool for strengthening fiscal discipline and policymaking" and praised former European commissioner Monti's efforts to curb public finances in the short term.

The report said banks had strengthened their capital positions but cautioned that they were at risk from the recession and financial market pressures.

Impaired loans in Italy have risen to 11 per cent in 2011, from less than six per cent before the crisis. Banks' holding of government bonds has also grown to seven per cent of assets compared with a four-per cent eurozone average.

Foreign holdings of Italian bonds have meanwhile decreased from around 51 per cent last year to an estimated 37 per cent now, the report said.

The IMF forecast that Italy's debt-to-GDP ratio will peak at about 126.4 per cent in 2013 before declining to 119 per cent in 2017 but warned that a slow recovery, high interest rates or policy slippage could push debt even higher.

Copyright @Thomson Reuters 2012